Tuesday 25 October 2016

Brendan Keenan: In a cliff-hanger ending, will America or Europe jump first?

Despite the election result, markets remain nervous about the US

Published 11/11/2012 | 05:00

LET'S hope Obama can find a way over the fiscal cliff. Last week's economic forecast from the EU Commission made grim reading, and something good needs to happen somewhere.

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There is also Ireland's friend, Mr Xi. The change of guard in China has clearly been difficult but there are reasons to hope that reformers have the upper hand. However, reform may mean slowing the enormous investment programmes which have been so much benefit, to Germany in particular.

The weaker German economy -- which accounts for a third of eurozone output -- is a prime cause of what is another eurozone recession. Forget all that stuff about two consecutive quarters of contraction. The commission forecast of falling output this year, and virtually no increase next year, represents pretty severe recessionary conditions.

It's not good for confidence. Confidence is much in demand these days, in the absence of any other obvious sources of growth. Political stability and sounder economic policies in China, and a resolution, messy though it will be, of America's looming austerity programme, may help.

That's the famous fiscal cliff. Stimulus policies run out at the end of the year and a return to normality would engender $600bn in tax rises and spending cuts. That would not be good for confidence.

The gloomy forecasts from the commission are based on the assumption that this will not happen, or that fresh disasters will not occur. In the Financial Times last week, Sebastian Mallaby looked at what might happen if they do.

Should the US fall over the fiscal cliff, its growth could be cut from the IMF's projection of 2.1 per cent to almost zero. Analyses of a disorderly break-up of the eurozone project a 7 per cent fall in the German economy, and 13 per cent in Greece. The effect on Ireland would be somewhere between the two.

The US Congress tends to back away from cliffs, but only when one foot is dangling over the edge. Much like Europe really, but of the two disasters, a euro break-up would be the worse, and may even be the more likely.

Last week, though, markets seemed more worried about the USA. Even while the Obama victory parties were in full swing, share prices were falling and money was going into supposedly safe, but highly unrewarding, US government bonds.

The rate on supposedly unsafe, but rewarding Spanish bonds -- which have come to be seen as a measure of attitudes towards the euro -- held steady. That may be because, behind the petrol bombs and the tear gas, interesting things are happening in Greece.

There is more austerity, of course, with cuts of 15-35 per cent in public pay and pensions among the measures. One sometimes wonders if we really are a special case, with a separate, easier rule book from the Greeks.

The apparently different treatment may reflect, not so much budget deficits which are similar, but their 7 per cent of GDP deficit in their dealings with the rest of the world.

The interesting bit is the extra reliefs which Greece may get, having narrowly accepted the austerity plan on Wednesday. There will be the €30bn needed to pay the bills but the interest rate on those borrowings may be cut again, with eurozone finance ministers due to approve the reductions tomorrow.

The plan would drop the interest rate on troika borrowings by about three-quarters of a per cent. The idea is to make the Greek debt burden -- officially forecast to peak at 192 per cent of GDP in 2014 -- more sustainable.

That should ring a few bells here, as ministers cajole for just a little bit of help. Perhaps the problem is that one does not get eurozone assistance to make debt more sustainable until it is clearly unsustainable. The official forecast here -- a peak of 122 per cent of GDP -- is just on the borderline.

Perhaps it was a mistake to keep those Nama borrowings off the books. With them added, we would have an unanswerable case for unsustainability.

It will be even more intriguing if the European Central Bank does what it is widely expected to do in the Greek case.

The ECB has barrow-loads of Greek government bonds which it bought in the market at well below face value. The idea is that it would be paid back in full but would then pass the profits on to national eurozone finance ministries. They, in turn, would give the money back to Greece.

Everyone's face will be saved and it can be claimed no treaties are broken. Governments in some creditor countries may yet scupper the plans, but if they do not, a Rubicon will have been crossed.

Messrs Kenny, Gilmore and Noonan only have to wait, but seem to feel they cannot afford to wait. More confidence, that's what they need.

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